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RBI's G-SAP 1.0 masterstroke: Where should debt mutual fund investors invest?

The RBI will purchase government securities worth Rs 1 lakh crore under GSAP 1.0 in Q1FY22. It had purchased bonds worth around Rs 3.13 lakh crore from the secondary market in FY21.

RBI's G-SAP 1.0 masterstroke: Where should debt mutual fund investors invest?

The RBI also announced its intention to expand its Variable Rate Reverse Repo auction program in FY22.

In its first monetary policy review for financial year 2021-22, RBI kept the key lending rates unchanged amid a surge in COVID-19 cases across the country. The central bank's decision was on expected lines. It is a positive policy for bond markets, say debt mutual fund managers. They believe the surprise introduction of G-SAP 1.0, a secondary market G-Sec acquisition programme, is a great move to contain the volatile long-term bond yields.

"RBI's move to introduce G-SAP - secondary market G-Sec acquisition program, is a masterstroke. This would reign in sharp spike in G-Sec bond yields," says Lakshmi Iyer, CIO (Debt) & Head Products, Kotak Mutual Fund. She expects the yield curve to flatten from current levels with the longer end of the curve compressing faster than the shorter end.

The RBI will purchase government securities worth Rs 1 lakh crore under GSAP 1.0 in Q1FY22. It had purchased bonds worth around Rs 3.13 lakh crore from the secondary market in FY21. However, it was carried out in an ad-hoc manner with the market awaiting RBI's open market operation(OMO) purchase announcements with bated breath on a weekly basis. "A structured purchase program will definitely calm investors' nerves and help market participants to bid better in scheduled auctions and reduce volatility in bond prices," says Dhawal Dalal, CIO-Fixed Income at Edelwiess MF.

Also read: RBI announces G-SAP 1.0 worth Rs 1 lakh cr; 1st purchase worth Rs 25,000 cr on April 15

RBI is going to be very upfront in terms of its actions to manage the yield curve, says Amit Tripathi, CIO-Fixed Income, Nippon India Mutual Fund. "It will ensure that the markets remain conducive for the large borrowing program to go through. G-SAP 1.0 along with option for OMOs will ensure that the yields at the longer end of the curve remain anchored," he adds.

The bond market has been highly volatile in the recent times. The benchmark 10-year G-sec bond yields fell to 5.8 per cent around November 2020 from a record-high levels of 8.1 per cent till September 2018. And from there on, the yield curve took a U-turn to move up to the current level of around 6.1 to 6.2 per cent.

Apart from this, the RBI also announced its intention to expand its Variable Rate Reverse Repo (VRRR) auction program in FY22. While details are awaited, Dalal believes this is aimed at removing surplus liquidity from the banking system and normalising short-term money market rates.

That said, RBI Governor Shaktikanta Das emphasised that the measure is a liquidity management operation, not a liquidity tightening operation.

Also read: RBI's MPC keeps key lending rates unchanged; maintains accommodative stance

The RBI's Monetary Policy Committee (MPC) also decided to retain its 'accommodative' policy stance. The central bank also revised the projection for CPI inflation to 5 per cent in Q4 of 2021 and 5.2 per cent in Q1 2021-22.

How will RBI's first policy in FY22 impact debt funds?

Unless inflation moves significantly away from the projections, Tripathi does not expect a hike in repo rate in calendar year 2022. Pankaj Pathak, Fund Manager-Fixed Income at Quantum Mutual Fund, sees RBI beginning hiking interest rates around the end of this year. "Investors should expect gradual rise in bond yields over medium term. We also expect very high volatility in interest rate going forward. Dynamic bond funds could be an option for investors with long-time horizon and higher risk appetite. Conservative investors should stick to liquid funds," says Pathak.

As per Dalal, investors should expect low single-digit returns from the bond market in FY22, and will have to increase their average maturity in order to optimise their risk-adjusted returns.

"We wish to highlight that investors at the short-end (up to 2 years) will probably earn zero or negative real return (inflation-adjusted) in FY22, similar to FY21," says Dalal. He recommends investors to consider investing in high-quality bonds maturing in 5 years or higher through passively-managed target maturity bond index funds as well as bond ETFs to benefit from diversification and predictability of returns for hold-to-maturity investors.

He explains that the worst is possibly behind as far as the movements in yields are concerned. Based on that, investors are requested to get invested at the earliest and not wait for an opportune time. Funds running constant duration strategies in the 1-3 year space and reducing duration strategies across the yield curve offer this good risk-return tradeoff. As the normalisation of economic and financial system gathers pace, Dalal expects credit funds to regain ground, driven by higher balance sheet visibility and comfort, and reasonable spreads.

Also read: Best route to double your investment - small savings schemes vs mutual funds

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